How inflation erodes savings, and how to measure it

Inflation is a general rise in prices, so each unit of money buys a little less every year. Savings that earn less interest than the inflation rate lose purchasing power even though the balance goes up. At 3% inflation, 1,000 left in an account paying nothing buys about a quarter less after 10 years. The inflation calculator works out that loss for any amount, rate and period.

Purchasing power in one formula

If prices rise at an average rate i each year, what an amount will buy in n years, measured in today's money, is:

• Real value = amount ÷ (1 + i) to the power n

It is compound interest run in reverse: prices compound upward, so the value of a fixed sum compounds downward. Most central banks, including the US Federal Reserve, the European Central Bank and the Bank of England, aim for about 2% a year, but actual inflation varies a great deal: in 2022 annual consumer price inflation passed 9% in the US and 11% in the UK.

What 10 years does to 1,000

At 3% a year for 10 years, prices rise by about 34.4% in total, because 1.03 to the power 10 is about 1.344. So 1,000 in cash will buy what about 744 buys today: a loss of about 25.6% of its purchasing power. Stretch it out and the effect grows: at 2.5% for 20 years, 1,000 is worth about 610 in today's money. A quick way to estimate it is the rule of 72: divide 72 by the inflation rate to find roughly how many years it takes for prices to double. At 3%, that is about 24 years, so money kept in cash for that long buys about half as much.

Nominal vs real returns

The interest rate an account advertises is the nominal return. What matters for purchasing power is the real return, after inflation:

• Real return = (1 + nominal rate) ÷ (1 + inflation) − 1

A savings account paying 4% with inflation at 3% earns a real return of about 0.97%: a gain, but a small one. One paying 1.5% when inflation is 3% has a real return of about −1.46%. Over 10 years, 10,000 at 1.5% grows to about 11,605, which looks like progress, but in today's money it is worth only about 8,636. Tax on the interest, where it applies, widens the gap further. Comparing the yield on an account with the current inflation rate is the simplest test of whether your savings are keeping up; APR vs APY: the rate before and after compounding explains which rate to read.

When cash is still the right home

None of this means cash is a mistake. For an emergency fund and for money you will need in the next few years, certainty matters more than return: you need the full amount to be there when the boiler breaks or the deposit is due. The aim is to keep that money in the best-paying safe account you can find, not to avoid cash. The emergency fund calculator helps size the part that should stay in cash. Inflation becomes a serious problem for money that will sit for a decade or more, such as long-term savings and retirement money.

Ways people try to keep pace

There is no option that beats inflation without some trade-off, and which suits you depends on your timescale and how much risk you can accept. These are the common choices, not a recommendation:

• Higher-paying savings and fixed-term deposits: low risk, but a fixed rate can fall behind if inflation rises after you lock in.
• Inflation-linked government bonds, such as US TIPS or UK index-linked gilts, which adjust with an official price index but can still fall in market value if sold early.
• Shares and diversified funds, which have outpaced inflation over long historical periods but can fall sharply and stay down for years, so they suit money you will not need soon.
• Paying off high-interest debt, which gives a guaranteed saving equal to the debt's interest rate.

For long-term money, the compound interest calculator shows growth at a nominal rate; subtract an assumed inflation rate from that rate for a rough real-terms picture. The same logic applies to pay: a pay rise smaller than inflation is a real-terms cut, which the salary converter helps put in context.

Using the inflation calculator

I built the inflation calculator for questions that official tools cannot answer: the future at an assumed rate, a quick check with a long-run average, or a country that is not in their list. It has no live price index. The presets are rounded 2000–2025 averages for several economies, such as about 2.6% for the US and 2.8% for the UK. For exact historical comparisons, use your national statistics office or central bank calculator, such as the Bank of England's, which use the actual monthly price series. Nothing you enter is stored. Compound interest, explained with real numbers covers the growth side of the same arithmetic.